Lecture 5

IFRS 3 Business Combinations

Creating
IFRS 10 Consolidated Effective
Financial Presentations
Statements

July 2016

Anna Kokoulina

Graduate of International Economics and Business, UrFU

Assurance

September 21
Agenda

To identify the difference between

1 IFRS 3 and IFRS 10

To determine objectives, principles of

2 standards, and define when IFRS 3
and IFRS 10 should be applied

To consolidate the acquired

3 knowledge in practice

Page 2
IFRS 3 Business Combinations vs. IFRS 10 Consolidated
Financial Statements

What is the difference between IFRS 3 and IFRS 10?

IFRS 3 IFRS 10

Measurement of the Defines a control

items in the and prescribes
consolidated Deal with business
combinations and their specific
financial statements, consolidation
such as goodwill, financial statements
procedures
non-controlling
interest, etc.

If you need to deal with the consolidation, you have to apply both standards, not just one or the other.

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IFRS 3 Business Combinations

Objective of IFRS 3:

Improve the relevance, reliability and comparability of information that a reporting entity provides in its financial
statements about a business combination and its effects.

IFRS 3 establishes principles and requirements for how the acquirer:

Recognizes and measures Recognizes and measures Determines what

assets, liabilities, NCI the goodwill information to disclose

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IFRS 3 Business Combinations
Is it a business combination?

Assets + Liabilities need to

3 elements:
constitute a business

1 1. Inputs
any economic resource that creates or can create outputs when
one or more processes are applied to it (PPE, Inventories, etc.)

2. Processes
any system, standard, protocol, convention or rule that when
applied to an input(s), creates outputs (production, workforce)

3. Outputs
the result of inputs and processes applied to those inputs that
2 3 provide or can provide a return directly to investors or other
owners (dividends, lower costs or other economic benefits)

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IFRS 3 Business Combinations
Acquisition method

What is the difference between the acquisition method and consolidation procedures?

The acquisition method is simply a part of all consolidation procedures that need to be performed.

The acquisition method involves 4 steps:

1 2 3 4
Recognizing and
Identifying the Determining the Recognizing and
measuring assets,
acquirer acquisition date measuring goodwill
liabilities and NCI

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IFRS 3 Business Combinations
Acquisition method

1 2 3 4
Recognize and
Determine the Recognize and
Identify the acquirer measure assets,
acquisition date measure goodwill
liabilities and NCI

Recognize assets and liabilities at acquisition date (fair value)

Acquired assets and

Fair value adjustments necessary
liabilities

Recognize subsidiary’s unrecognized assets/liabilities

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IFRS 3 Business Combinations
Acquisition method

Non-controlling interest (NCI)

The equity in a subsidiary which is not attributable, directly or indirectly, to a parent.

Measurement of NCI:
Parent Subsidiary Parent Subsidiary
Method 1:
100% 80%
Its proportionate share of the fair
value of the subsidiary’s net assets

Method 2:
Full (fair value) based on market
value of shares held by NCI
NCI = 0 NCI = 20%
Affects goodwill

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IFRS 3 Business Combinations
Acquisition method

Goodwill

Is the difference between the value of the business taken as a whole and the fair value of its separate net assets

Fair value of NCI FV of subsidiary’s

Fair value of FV of previous
at acquisition net assets at
Investment equity interests
date acquisition date

YES Is it greater than zero? NO

Goodwill Gain on a bargain purchase

Capitalize as an asset + Reassess + identify errors +

annual impairment review any excess to P&L

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Example
Goodwill and non-controlling interest under IFRS 3

Parent acquires 80% share in Subsidiary for the cash

payment of $100,000.

On the acquisition date, the aggregate value of

Subsidiary’s identifiable assets and liabilities in line with
IFRS 3 is $110,000.

The fair value of NCI (the remaining 20% share) is

$25,000. This amount was determined with the
reference of market price of Subsidiary’s ordinary
shares before the acquisition date.

Calculate goodwill and NCI using both methods

Page 10
Exercises

Sofia

Masha

Alex

Nikita
Task 1. Acquisition method

On 1 January 2017, Parent acquired 100% of the ordinary shares of Subsidiary, which was formed on that date.

Statements of financial position of both companies as at 31 December 2018 are shown below.

Prepare the Consolidated statement of financial position as at 31 December 2018.

Page 12
Task 1. Acquisition method
Solution

Parent paid as much as the share capital of Subsidiary.

According to IFRS10, we have to eliminate the carrying amount of Parent’s investment in Subsidiary.

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Task 2. Goodwill

On 1 January 2017, Parent acquired 100% of the ordinary shares of Subsidiary, which was formed on that date.

Statements of financial position of both companies as at 31 December 2018 are shown below.

Prepare the Consolidated statement of financial position as at 31 December 2018.

Page 14
Task 2. Goodwill
Solution

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Task 3. Non-controlling interest

On 1 January 2017, Parent acquired 80% of the ordinary shares of Subsidiary. At the date of acquisition the retained
earnings of Subsidiary amounted to $3,560,000.

The fair value of non-controlling interest on acquisition was $4,600,000.

Statements of financial position of both companies as at 31 December 2018 are shown below.

Prepare the Consolidated statement of financial position as at 31 December 2018.

Page 16
Task 3. Non-controlling interest

Hint, Subsidiary’s net assets:

Page 17
Summary

Page 18
IFRS 10 Consolidated Financial Statements

Objective of IFRS 10:

Establish principles for the presentation and preparation of consolidated financial statements when an entity controls
one or more entities.

Defines the principle of

Requires an entity (parent) Defines an investment
control as the basis for Sets out the accounting
that controls one or more entity and sets out an
consolidation and sets out requirements for the
other entities (subsidiaries) exception to consolidating
how to identify whether the preparation of consolidated
to present consolidated particular subsidiaries of
investor controls the financial statements
financial statements an investment entity
investee

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IFRS 10 Consolidated Financial Statements
Control as the basis for consolidation

1 Consolidated 2 3 Accounting 4
Control Investment entities
financial statements requirements

An investor controls an investee when the investor:

Is exposed to, or has right to variable returns from its involvement with the investee;
Has the ability to affect those returns
Through its power over the investee.

Power Existing rights that give the current ability to affect the relevant activities of investee.

Page 20
Example
Disposal of subsidiary

What happens when a parent sells the share in a subsidiary?

First of all, you need to assess whether the parent retains control or not.

No Yes

Disposal of subsidiary Keep subsidiary

(deconsolidation) (special purpose entity)

If the parent loses control with selling shares, If the parent retains control and sells the share,
then you need to stop the full consolidation then well, you have a special purpose entity
and dispose of the subsidiary. here and you still need to consolidate.

Page 21
Exercises

Sofia

Masha

Alex

Nikita
Task 1
Parent’s control over the Subsidiary

Green Co owns the following investments in other companies:

Green Co also has appointed five of the seven directors of Black Co.

Which of the following investments are accounted for as subsidiaries in the consolidated accounts of Green Co
Group?

A Violet only
B Amber only
C Violet and Black
D All of them

Page 23
Task 1
Solution

Let’s consider each of the investments in turn to determine if control exists and, therefore, if they should be accounted
for as a subsidiary.

Violet Co – by looking at the equity shares, Green Co has more than 50% of the voting shares – i.e. an 80% equity
holding. This gives them control and, therefore, Violet Co is a subsidiary.

Amber Co – you must remember to look at the equity shares, as despite having the majority of the non-equity shares,
these do not give voting power. As Green Co only has 25% of the equity shares, they do not have control and, therefore,
Amber Co is not a subsidiary.

Black Co – by looking at the percentage of equity shares, you may incorrectly conclude that Black Co is not a subsidiary,
as Green Co has less than half of the voting rights. However, by looking at the fact that Green Co has appointed five of
the seven directors, effectively they have the power, and ability to use that power, to affect the decision making in the
company which will impact on the returns to be made. This should make you conclude that Black Co is a subsidiary.

Therefore the correct answer is C.

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IFRS 10 Consolidated Financial Statements

1 Consolidated 2 3 Accounting 4
Control Investment entities
financial statements requirements

Consolidated
The financial statements of a group presented as those of a single economic entity.
financial statements

Parent Subsidiary Group

Separate FS Separate FS Consolidated FS

Consolidation procedures + Accounting requirements

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IFRS 10 Consolidated Financial Statements

1 Consolidated 2 3 Accounting 4
Control Investment entities
financial statements requirements

Consolidation procedures

Combine like items of assets, liabilities, equity, income, expenses and

Step 1 cash flows of the parent with those of its subsidiaries

Offset (eliminate):
Step 2 1. Carrying amount of parent’s investment in subsidiary;
2. Parent’s portion of equity of each subsidiary.

Step 3 Offset (eliminate) items related to intragroup transactions.

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Task 2
Parent’s control over the Subsidiary

Pink Co acquired 80% of Scarlett’s Co ordinary share capital on 1 January 20X2.

As at 31 December 20X2, extracts from their individual statements of financial position showed:

As a result of trading during the year, Pink Co’s receivables balance included an amount due from Scarlett of $4,600.

What should be shown as the consolidated figure for receivables and payables??

Page 27
Task 2
Parent’s control over the Subsidiary

From the question, we can see that Pink Co has control over Scarlett Co. This should mean that you immediately
consider adding together 100% of Pink Co’s balances and Scarlett Co’s balances to reflect control.

However, the intra-group balances at the year end need to be eliminated, as the consolidated accounts need to show the
group as a single economic entity. The group statement of financial position should only include amounts owed and
owing to entities outwith the group.

As Pink Co shows a receivable of $4,600, then in Scarlett Co’s individual accounts there must be a corresponding
payable of $4,600. When these balances are eliminated, the consolidated figures become:

Receivables ($50,000 + $30,000 – $4,600) = $75,400

Payables ($70,000 + $42,000 – $4,600) = $107,400

Therefore, the correct answer is D

Page 28
IFRS 10 Consolidated Financial Statements

1 Consolidated 2 3 Accounting 4
Control Investment entities
financial statements requirements

Investment entity:
1. Obtains funds from one or more investors for the purpose of providing those investor(s) with investment
management services;
2. Commits to its investor(s) that its business purpose is to invest funds solely for returns from capital appreciation,
investment income, or both;
3. Measures and evaluates the performance of substantially all of its investments on a fair value basis.

Typical characteristics of investment entities:

> 1 investment > 1 investor Investors ≠ Related parties Ownership=equity

Page 29
Exercises

Sofia

Masha

Alex

Nikita
Task
Consolidated financial statements

You are presented with 4 Consolidated Financial Statements of a Group of companies:

1. Consolidation statement of financial position;
2. Consolidation statement of comprehensive income;
3. Consolidation statement of cash flows;
4. Consolidation statement of changes in equity.

The Consolidated Financial Statements of the Group have been prepared in accordance with International Financial
Reporting Standards (IFRS) as issued by the International Accounting Standards Board (IASB).

What do you think the Consolidated Financial Statements of a Group of companies from which industry are
presented on the slides/handouts?

Provide your comments on significant changes in 2017 compared to 2016.

Can you identify any risks based on the 2017 financial results?
What consequences can these risks have on the company's performance in the future?

Page 31
Task
Consolidated financial statements
Consolidated statement of financial position Consolidated statement of comprehensive income

Page 32
Task
Consolidated financial statements
Consolidated statement of cash flows Consolidated statement of changes in equity

Page 33
Possible answer
Consolidated financial statements

1. The company’s Fixed Assets account (PRE) is significant.

2. An increase in “Prepayments for non-current assets” account that include mainly advances to suppliers of
Equipment is observed.
3. The Group of companies has non-current and significant current Inventories on its Balance Sheet.
4. In 2017 the letters of credit were issued. We can assume that the main purpose if issuing was to secure the Group’s
liabilities under the contracts for purchase of Equipment and Inventory.

Mining and concentrating industry

Page 34
Possible answer
Consolidated financial statements

1. As at 31 December 2017, the Group’s current liabilities exceeded its current assets by 3,583,785 thousand roubles
(2016: 3,172,297 thousand roubles).

This circumstance constitutes a significant liquidity risk for the Group, which cause a material uncertainty and
cast significant doubt on the Group’s ability to continue as a going concern, and therefore the Group may be
unable to realize its assets and discharge its liabilities in the normal course of business.

2. The Group generates significant cash inflows from operations (2017 and 2016: 6,797,968 thousand roubles and
5,482,724 thousand roubles, respectively).

The Group discharges its current liabilities for account of cash inflows from operations.

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Questions?

Sofia

Masha

Alex

Nikita